Monetary Policy
Introduced| English | Meaning |
|---|---|
| monetary policy/ˈmʌnɪtəri ˈpɒlɪsi/ | Actions by a monetary authority to influence interest rates, credit or money conditions in pursuit of economic objectives. |
| expansionary/ekˈspænʃənəri/ | Describing an economic policy intended to increase aggregate demand or economic activity. |
| contractionary/kənˈtrækʃənəri/ | Describing an economic policy intended to reduce aggregate demand or restrain economic activity. |
| open-market operations/ˈəʊpən ˈmɑːkɪt ˌɒpəˈreɪʃnz/ | Central-bank purchases or sales of securities used to influence monetary conditions. |
| reserve requirement/rɪˈzɜːv rɪˈkwaɪəmənt/ | A rule specifying a minimum reserve holding relative to a defined bank liability or deposit base, where such a rule applies. |
| discount rate/ˈdɪskaʊnt reɪt/ | The interest rate a central bank charges commercial banks for borrowing through its discount lending facility. |
| investment/ɪnˈvestmənt/ | Spending on assets intended to provide future returns or increase productive capacity. |
| aggregate demand/ˈæɡrɪɡeɪt dɪˈmænd/ | Total planned spending on an economy's goods and services at different general price levels. |
The central bank steers the economy
- The government's fiscal tools are spending and taxes.
- The central bank has a different lever: the money supply and interest rates.
- Pull it one way to fight a recession, the other to fight inflation.
- This is monetary policy 货币政策.
Two directions
- Expansionary 扩张性 (easy) policy raises the money supply and lowers interest rates to fight a recession.
- Contractionary 紧缩性 (tight) policy lowers the money supply and raises interest rates to fight inflation.
Expansionary or contractionary?
Expansionary policy raises the money supply and lowers rates to fight recession; contractionary policy does the reverse to fight inflation.
Expansionary monetary policy, used to fight a recession:
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More money and lower rates spur borrowing and spending, shifting AD right.
To fight inflation, the central bank buys bonds and lowers interest rates.
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False. That is expansionary policy. To fight inflation the central bank sells bonds and raises rates, which cools borrowing and shifts AD left.
Three tools
- Open-market operations 公开市场操作: buying government bonds injects money (expansionary); selling drains it. This is the main everyday tool.
- The reserve requirement 准备金要求: lowering it lets banks lend more (expansionary).
- The discount rate 贴现率: the rate the central bank charges banks; a lower rate encourages lending.
To inject money (expansionary), the central bank's open-market operation is to:
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Buying bonds pays banks in reserves, raising the money supply.
Select all three main tools of monetary policy.
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Open-market operations, reserve requirement and discount rate are monetary tools; income tax is fiscal.
How it reaches output
- The chain: a change in the money supply moves the interest rate, which changes investment 投资 and interest-sensitive spending, which shifts aggregate demand 总需求.
- Worked idea. In a recession the central bank buys bonds → reserves and the money supply rise → the interest rate falls from 5% to 3% → cheaper borrowing spurs investment → AD shifts right → output rises toward full employment.
A lower interest rate raises ______ and interest-sensitive spending, shifting AD right.
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Cheaper borrowing spurs investment, so aggregate demand rises.
Put the expansionary monetary chain in order.
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Money up → rate down → investment up → AD right → output up.
Monetary policy uses the money supply and interest rates. Expansionary (more money, lower rates) fights recession; contractionary (less money, higher rates) fights inflation. The main tool is open-market operations; the chain runs money → interest rate → investment → aggregate demand.
Write from a bond purchase of 20 billion
- The central bank buys 20 billion of bonds to fight a recession.
- Say what happens to the money supply, the interest rate and aggregate demand.
To fight a recession, the central bank buys 20 billion of government bonds. What happens to the money supply, the interest rate and aggregate demand?
Paying for the bonds creates reserves, which supports more lending.
What does buying 20 billion of bonds do?
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An open-market purchase is expansionary monetary policy.